Tim Gibson, director and co-portfolio manager for global property equities, is keeping a close eye on US interest rates. He also notes that disruption, while presenting risks, is also unearthing opportunities for property equities investors.
Will global property equities continue to underperform?
Even though equity and bond markets began to consider the possibility of interest rate rises in the US in May 2013, it took another two and half years before we saw rates actually rise in Dec ember 2015. Since then we have had 8 interest rate rises in total with the futures markets pricing in several more.
Markets, by their nature, are forward looking, reacting to news that is better or worse than relative expectations. The recent Q3 2018 results in the US saw cracks beginning to appear in corporate America as industrial companies, including heavy machinery company and well as technology companies delivered weaker than expected results. This was caused, in part, by rising input prices as the impact from higher wages, interest costs and trade tariffs began to bite.
This opens the door to the possibility that US equity market earnings growth may be peaking with the prospect of downgrades to come.
If earnings growth is slowing then a key question for 2019 would be: has the interest rate cycle in the US peaked? If the answer is yes then this would be very positive for REITs, as investors focus on companies with good earnings and dividend transparency. In addition to this we still forecast continued earnings growth with well covered dividends for REITs.
What challenges do we face within our sector?
Rising interest rates haven’t been the only challenge for the sector. Structural changes have been happening in retail leading to winners and losers. Indeed the range of earnings growth within the real estate sectors has, in our view, never been wider. As real estate investors who believe in being active managers, this excites us.
Technological change, rapid urbanisation and shifts in demographics are fundamentally altering consumer behaviours and redefining the needs and uses for real estate. The rise of e-commerce has changed the face of retail and epitaphs have long been written about the death of shopping malls. However, the growth of e-commerce has fuelled demand for modern logistics space as traditional warehouse ‘sheds’ have turned into new shops of the world. E-commerce can require as much as 3x more logistics space than traditional brick-and-mortar retailers and strategically located logistics assets are becoming more important in order to fulfil ever increasing expectations of the speed of online delivery. The record set in San Francisco was 8 minutes, from click to delivery!
What opportunities exist and how are we positioned for these?
These trends are always gradual and rarely happen overnight, but we are very selective in our holdings of retail landlords in recent years, focusing only on best in class operators which we believe have embraced this structural shift and have actively adapted in order to emerge as winners.
On the other hand, we have increased our positions in global logistics developers who are at the forefront of the development of modern logistics, how many parcels will arrive at your house these holidays?
We have also positions in a number of Data Centers and Tower companies were we expect secular growth trends to remain highly favourable for the foreseeable future.
Finally, on a country level, we see further upside in companies offering affordable and flexible housing in growing markets such as Germany, the Philippines and burgeoning cities within the US.
Where could we be wrong?
Clearly if the long end of the yield curve rises faster than expected, possibility due to better economic data, this would put further downward pressure on the sector. Alternatively, if the yield curve were to invert, implying an impending economic correction, then this would negatively impact share price performance.
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